Unfair dismissal compensation: why the cap simply doesn’t fit.

Where’s the fairness in the Government’s proposals to cap compensation for unfair dismissal? Partner and employment law specialist Paul Statham is at a loss to understand the current thinking…

In recent months the Government has put out numerous consultation documents on changing employment law. So it’s a surprise that the Enterprise and Regulatory Reform Bill includes a proposal to amend the cap on the compensatory award for unfair dismissal. This could potentially cut the maximum compensation from £72,300 to £26,000, whatever the losses assessed by the tribunal.

I say potentially, as the proposal is for the Minister to have regulation-making powers. Clause 13 proposes that the Secretary of State may, by statutory instrument, amend section 124 of the Employment Rights Act 1996 which prescribes the limit on the compensatory award for unfair dismissal. The clause could potentially be used to reduce the current cap on compensation:

  • to a specified amount of between one and three times median wages – namely £26,000 and £78,000
  • or a specified number of weeks pay (but not less than 52)
  • or the lower of the two.

All the indications in the parliamentary debates are that the intention is to reduce the limit. The clause allows the Minister to prescribe different limits for different kinds of employers, such as a lower amount for small businesses.

In 2010-2011 the median unfair dismissal award was only £4,591. 90% of awards were for less than £20,000 and all but 2% were for less than £50,000. Since these figures include the basic award which is not included in the cap, the average compensatory award must be significantly less.

The proposed change is therefore unlikely to have any effect on the vast majority of unfair dismissal cases that go to a hearing. So why are the Government proposing it, and why should we be worried?

It will certainly have no effect on the Government’s expressed aim of the bill to produce ‘strong, sustainable and balanced growth…’ (BIS press release 23rd May 2012).

It’s all about political expediency and dealing with the myths of the employers’ lobby. In particular, the small business lobby suggests that employment law and industrial tribunal claimants are a burden on business. And if government could remove the threat of being sued for unfair dismissal and the cost of vexatious and/or over-inflated claims, they would feel liberated to recruit loads more staff.

In the House of Commons committee debate on the bill, the then Minister, Norman Lamb (who was, in a previous life, an employment lawyer who wrote a book on compensation in tribunals), seriously suggested that the current ‘generous’ cap causes claimants to inflate their claims. His solution is to cut the cap rather than to provide information and guidance on the likely level of claims.

The cap has a long and notorious history. For many years it remained fixed at £12,000, being steadily eroded by inflation. At the same time, compensation in employment tribunals for other types of claim, especially discrimination claims, had no limit. The incoming Labour Government, in the Fairness at Work White paper, originally wanted to abolish the cap and bring compensation for unfair dismissal in line with that for breach of other employment rights. However the then Minister, Peter Mandelson, thought this would be too much for business to stomach. So there was a one-off increase to £50,000 with an annual up-rating in line with inflation each February. This is why the current cap is £72,300.

This compromise has undermined the opposition defence of employment rights in the House of Commons committee. Because the Government constantly throws back at them that they have always supported the cap, and that the new power may result in a higher cap of three times median earnings… even though everyone knows that is not the intention.

There is certainly a strong fairness argument in favour of abolishing the cap altogether. Why should employees dismissed on unlawful discrimination grounds be awarded full compensation, and employees unfairly dismissed have their compensation arbitrarily capped?

Abolishing the cap would also discourage any temptation to try to bring claims in respect of employment rights where there is no cap, such as whistle-blowing or discrimination, in the hope of negotiating a higher settlement or obtaining a higher award from the tribunal. Such claims are generally longer, more costly to defend and take up more tribunal resources. If the cap was reduced to median earnings (£26,000) in some or all cases, more claimants would be likely to try to bring additional discrimination or whistle-blowing claims to avoid it.

It’s strange that employees found to be unfairly dismissed and – despite best efforts – have been unable to find alternative employment to mitigate their loss, could have their compensation capped at potentially £26,000. Even though the tribunal might find their actual losses are far greater.

It may only affect a small number of claimants. But those employees are likely to be the better-paid and longer-serving, or have access to an occupational pension scheme.The main elements of large compensatory awards at present are long periods of future loss of earnings, or pension loss.

There may be Equality Act implications of reducing the cap too, as it’s likely to have a disproportionate effect on long-service employees who are likely to be older. And on male workers, ironically because of the scandal of the gender pay gap. Because even after nearly 40 years of equal pay legislation, it still stands at 10.5% across the board, and substantially more in some careers. In financial services, for example, it is 21%.

The proposal to have a power to alter the limits between different kinds of employers is very worrying. There used to be a small employer exemption from October 1980 to June 1985. You had to have two years’ continuous employment before you could bring a claim against an employer with less than 20 employees. There were plenty of cases about calculating whether an employer did or did not fall within the exemption, and I anticipate a similar situation if compensation for unfair dismissal is capped for small employers. It’s not hard to structure a business into a series of smaller legal entities, each supposedly independent, where none employ more than a set threshold.

Again it’s about fairness. If an employer has been found to have unfairly dismissed an employee, why should compensation be limited depending on the kind or size of the employer? Why are employees of small employers less worthy of employment protection?

You might recall that there was a lot of publicity earlier in the year about introducing a scheme for ‘no-fault dismissals’ for so-called micro businesses. It was the subject of a call for evidence. And although the Business Secretary, Vince Cable, has now indicated that this was a step too far, the current proposal seems to be designed as a sop to the small business lobby.

Ironically the fairness argument is not helped by the proposal in clause 14 to impose financial penalties on employers of up to £5000 where the tribunal finds the employer is at fault, and there are aggravating factors that merit, in effect, the imposition of a fine. So if the tribunal finds an aggravating factor, the distinction in treatment between different kinds of employers miraculously disappears!

Reducing the cap on the compensatory award could have a substantial effect on the employment rights of better-paid employees, particularly those in the professions, middle management and the public sector where they still have final salary pension schemes.

Lots of these employees’ claims for unfair dismissal settle without the need for proceedings using ‘compromise agreements’ at levels well over median earnings of £26,000. If the cap is changed to median earnings, the saving to employers in the public sector could be considerable.

A cynic might make a connection here with the number of public spending cuts that still have to be carried out… causing redundancies amongst higher paid employees.

In conclusion, this is a sinister proposal that has not been the subject of prior consultation, and yet another attack on the employment rights of employees.

Current Controversies, Editorial, Paul Statham,
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